Indexation benefit is gone! But the magic of Debt Mutual Funds continues.

The Finance Minister, Nirmala Sitaraman, moved an amendment in the Finance Bill 2023, stating the Long Term Capital Gain (LTCG) Tax will no longer be available for Debt Mutual Funds starting April 1, 2023. According to the amendments, debt mutual funds having not more than 35% invested in equity shares would be taxed at the income tax slab level and treated as a short-term capital gain. And this is similar to how your income from Bank FDs is taxed.

This has largely disappointed the investor community and much has been said. Now banking sales teams have a new weapon in their hands to convince retail investors in locking their capital in Fixed Deposits. They tend to claim about the ‘safety’ aspect with returns ‘at par’ with the Debt Funds.

But the question one may ask is, is it really the true picture? With the removal of LTCG, am I truly missing out on something invaluable? If debt funds are subjected to market volatility, should I not prefer FDs with similar returns (in fact, marginally more in some cases)? Let me try to answer these questions as simply as possible.

But before we jump on to the core, let us first understand what was true with LTCG or the Indexation benefit that came with Debt Mutual Funds.

Until 31st March 2023, investors in debt mutual funds paid income tax on capital gains for a holding period of three years according to their tax slab. Those with investments of more than 3 years were taxed at the rate of 20% with indexation benefits or 10% without indexation.

Basically, indexation was a way of calculations that helped investors to calculate the new value of the investment, considering inflation and also helped to get real capital gain. It mainly helped the HNIs in saving tax.

But now this is all past. Despite such a radical decision here are a few pointers that will help you understand how Debt Mutual Funds fare over traditional instruments like FD. And mind you, they still have the potential to outperform traditional instruments and beat inflation in most cases!

Hence, even though it now looks the traditional instruments can now provide returns at par with Debt MFs, here are a few special features of Debt MFs, that instruments like FDs do not offer:

1.?????Tax on Capital Gains applicable only on withdrawal

This is an extremely important feature. Here, unlike FDs, where you have to pay the interest on gains every year, in debt funds, you will have to pay the tax on gains ONLY when you will withdraw the units. This makes them a hero instrument to be considered when investors look for ‘safety’ in market-linked returns.

?2.?????No TDS to be deducted on Capital Gains earned by resident investors.

Yes, that’s true. It’s one of the key features of the debt MFs if you live in India. If you are a fan of FD, then you may very well note that Interest income from FDs attract a TDS of?10% and a TDS of 20% if PAN details are not provided to the bank.

?3.?????SWP facility for regular cashflows

This is an interesting feature of MFs known as a Systematic Withdrawal Plan (SWP). Here you can redeem units every month/quarter/half yearly/yearly as you wish to provide you with a constant stream of income.

?4.?????Allows withdrawing a small amount if needed

Yes, you can redeem only as many units as you wish, unlike other traditional instruments. Flexi FDs do provide the flexibility to withdraw funds without penalty. However, if you opt for regular FDs, you’ll have to pay an early withdrawal penalty regardless of the investment period. But in the case of debt funds, once a certain period has elapsed, there is no exit load. Therefore, debt funds offer greater liquidity and can be more cost-effective than Bank FDs.

?5.?????Can offset and carry forward losses

Setting off losses means adjusting the losses against the profit of that particular year. Losses that are not set off against income in the same year can be carried forward to the subsequent years for set off against income of those years. To simply explain, you can set off the loss from a particular debt scheme against profit from any other scheme to carry forward the loss in the next FY.

?6.?????Can invest with a nominal amount via SIP

One does not need thousands and thousands of rupees to start with. In fact, you can start with as less as Rs. 500/- via a Systematic Investment plan.

?7.?????All securities are managed by professionals

Your funds are managed by qualified and experienced professionals that strive to maximize your market-linked returns with a cushion of safety via Debt Mutual Funds.

Hope this article helps you decode the myths of investing in Debt MFs and make a better decision. Happy investing!